Variable Annuities With Guarantees Hold Allure For Seniors

The Federal Reserve recently left its interest rate levers alone again. And while interest rates have bounced a bit since June, they are still historically low.

For seniors, this has meant less income kicked off invested assets than just a few years ago. Much less.

This situation might entice some seniors to take on a bit more credit risk or invest for a longer duration to pick up additional yield. But, does stretching toward more risk extend beyond fixed income opportunities? More specifically, are equities a haven for seniors?

If variable annuity sales are an indicator of interest in the equity markets, the answer is yes.

Many insurance companies, including our own, have experienced strong interest in variable annuities by individuals age 50 and above. I know of some companies that have an average variable annuity issue age well into the 60s.

This shouldnt come as a surprise. Longer life expectancies have opened the window of opportunity for seniors to keep some portion of assets in the equity markets. In past eras, the traditional time horizon for equity investing ended at or near retirement, but newer thinking invites the possibility of investing in the markets at much older ages.

One could think of the current strategy for seniors in another way, based on the widespread concept of laddering bonds.

Such laddering is a widely accepted means of balancing the greater yield (and risk) of longer durations with the need always to have a portion of assets available to invest at a current interest rate. Equities are not actually used in a laddering strategy, but one might position equities as, perhaps, the farthest rung on a seniors financial ladder. Treat the equity markets as the investment providing the opportunity for the greatest long-term growth (with the acknowledged extra risk).

Bringing this back to variable annuities, the variable annuity product can be a good fit for older clients who want this exposure to equity markets.

For clients already maxed-out on tax-deductible contribution options, annuities allow for deferral of income tax on contract gains. Additionally, variable annuities not only offer a wide variety of investment options, including fixed options. They also offer many benefits and guarantees not available in mutual funds, exchange traded funds, stocks and other equity investments.

These guarantees range from guaranteed minimum death benefits (GMDBs), guaranteed minimum income benefits (GMIBs), guaranteed minimum withdrawal benefits (GMWBs), guaranteed minimum accumulation benefits (GMABs), enhanced earnings benefits (EEBs) and guaranteed payout annuity floors (GPAFs).

These features provide equity options to the contract holder exercisable on death (GMDBs and EEBs), automatically (GPAFs) or at policyholder option (GMIBs, GMABs, and GMWBs).

Such benefits and guarantees do have costs not generally associated with other equity investments–costs taking the form of additional mortality and expense charges up to (and beyond) 0.75%.

What they provide, however, may be what makes a variable annuity contract palatable to some older consumers.

Consider a return of premium GMAB, guaranteeing a minimum account value (at the end of a waiting period like 10 years) of the greater of first-year premiums or current account value. Many companies limit the allowable equity investment inside contracts with such a benefit, but some equity exposure is still permitted.

The upside potential and downside protection of this arrangement make it an attractive option to an older consumer worried about preserving capital.

GMIBs and GMWBs also offer downside protections to consumers, similar to that in the GMAB, although the guarantee is realized upon annuitization (GMIB) or over a period of partial withdrawals (GMWB).

Of course, not every consumer desires downside protection for equity investments. But, for those clients who want some long-term equity exposure without all the risk of volatile returns, the added value of the guaranteed benefits may create a winning combination.

Robert P. Stone, FSA, MAAA, is assistant vice president and associate actuary with American United Life Insurance Company, a OneAmerica Financial Partner Company in Indianapolis. His e-mail address is Rob_P_Stone@aul.com.


Reproduced from National Underwriter Life & Health/Financial Services Edition, November 14, 2003. Copyright 2003 by The National Underwriter Company in the serial publication. All rights reserved.Copyright in this article as an independent work may be held by the author.